Other Pitfalls Of Government Stock Purchases

January 22, 1999

Two key objections to having the Social Security Trust Fund invest a portion of its surplus in the stock market is that the process could easily be politicized and the government might start interfering in corporate policies.

But respected economists are suggesting other dangers as well:

The plan would necessarily increase the allocation of capital to larger companies at the expense of very small entrepreneurial concerns that lack the liquidity to accommodate large government purchases.

Investing a part of the trust fund in equities would lead to a perceived increase in risk and could make the public feel even less secure about receiving benefits eventually.

When employment and wages -- and as a result Social Security revenues -- are high, the stock market is likely to be high.

But when equity prices are low during recessions, the funds available for investment are likely to be low.

Thus, more money will be invested in stocks when prices are high, and less when equity valuations are more attractive.

Presumably, the increased demand for stocks would raise prices and lower future returns. At the same time, the lower demand for Treasury securities -- occasioned by the siphoning of funds to stocks rather than Treasuries -- would lower bond prices and increase yields. But higher Treasury yields would raise federal interest costs and tend to increase the non-Social Security deficit -- and ultimately the burden on taxpayers.